We don’t just cover cannabis because we consume loads of the stuff in all forms. Our first piece on the topic – No to Marijuana Stocks, Yes to Weed Investing – was published in 2016 to warn investors about all the over-the-counter (OTC) junk stocks attaching themselves to the cannabis thesis like leeches. Our attempt at warning investors was met with some well-articulated critical commentary:
- CGC +50% up and on TSX now. This was shitty article
- Totally missed the mark on this one bud. Back to class for you.
- Absurd article. Internet trash.
In the years that followed, the cannabis thesis absolutely exploded, so we continued to cover it. At the peak of inflated expectations, stocks like Canopy Growth (CGC) had a greater valuation than names like Western Union and Harley Davidson.
Canopy Growth was valued the same as Molson Coors when we wrote the following:
Molson Coors brought in about $11 billion in revenues during 2017, while we’d be surprised to see Canopy Growth hit $80 million in revenues for 2018. In order for Canopy Growth to reach more than $10 billion in revenues, they would need 25% growth in revenues, every year, for 20 years.
Credit: Nanalyze
Since then, Canopy Growth has lost -78% of its value and currently commands a market cap of around $4.20 billion dollars. (Giggles.) Now that valuations have come back down to earth, and we sufficiently understand the opportunity on offer, it may finally be time to invest in cannabis stocks. But which ones?
The Five Largest MSOs
We previously wrote about multi-state operators (MSOs), a list that’s slowly been consolidating over time. The five biggest MSOs today based on their current market caps in USD are Curaleaf (CURA.CN), Trulieve Cannabis (TRUL.CN), Green Thumb Industries (GTII.CN), Cresco Labs (CL.CN), and Columbia Care (CCHW.CN).
As we discussed recently, we’re capping our entire tech stock + cannabis portfolio at 40 stocks (12 categories X 3 stocks per category + a 10% buffer). We’re currently holding 34 stocks in our tech stock portfolio so we certainly don’t want to add all five cannabis stocks. We don’t want to hold just one stock because we’ll be taking on too much company-specific risk. So ideally, we can find a few compelling names from the above list. Today, we’re going to start by looking at Trulieve Cannabis Corp.
The Good
Initially, loads of capital flowed into the cannabis industry, and many companies overextended themselves by acquiring too quickly and spending money like drunken sailors. Let’s assume that the capital spigot is now flowing at a fraction of what it used to, so companies that demonstrate consistent profitability over time are desirable. Trulieve is leading the pack when it comes to consistent profitability with their 15th consecutive profitable quarter in Q3-2021. Here’s how their last four quarters of net income compare to the largest and third largest MSOs by market cap.
Focusing on profitability contradicts our usual “revenue growth at all costs” approach to tech stocks, but cannabis is a particularly risky space. Cost management and revenue growth should both be considered. The latest Trulieve results are particularly impressive when you consider they just closed the acquisition of Harvest Health making them the biggest – by number of retail locations – MSO of them all.
Trulieve’s consolidated revenues put them within reach of Curaleaf with the two companies running neck and neck in Q3-2021 with revenues of $316 million and $317 respectively.
The Bad
Earlier, we mentioned how funding for cannabis companies may have dried up, something that’s not only attributable to investor interest, but also to the legalities surrounding financial products associated with an illegal drug. That’s why it’s somewhat impressive that Trulieve was able to close what they believe to be “the largest debt financing to date of any public multi-state operator” this past September. The $350 million private placement of 8% senior secured notes were used to retire Harvest’s debt along with some other bits and bobs. That’s also at a cost that Trulieve believes “is the lowest for a public cannabis company to date.”
We’re not particularly keen that Trulieve has taken on a meaningful amount of debt. The company would argue that their ability to secure financing at favorable terms and quantities bodes well for their capital needs going forward and is a testament to the strength of their business. Additionally, there’s a concern around their overreliance on the state of Florida where 70% of their dispensaries are located and 77% of their cultivation takes place. That’s also where the ugly stuff happened.
The Ugly
We always talk about the importance of uncovering red flags and Trulieve has one so big you could hang it in Tiananmen square. This past August, J.T. Burnette, the husband of Trulieve CEO Kim Rivers, was convicted of five of nine federal corruption-related charges. The connection between Trulieve’s CEO and the convicted fellow wasn’t just in the bedroom. Apparently, Trulieve had been doing quite a bit of business with J.T. Burnette’s construction company that they only disclosed after the fact.
Then there was this bit per the Tampa Bay Times:
Burnette had to answer questions on the stand about a tape-recorded conversation he had with undercover FBI agents in which he bragged about helping lawmakers craft the 2014 law that paved the way for Trulieve to enter the Florida market. One of those lawmakers, former state Rep. Halsey Beshears, is the brother of a Trulieve board member. Rivers herself was subpoenaed in the case for information, although that inquiry was about a different business venture, not Trulieve.
Credit: Tampa Bay Times
When put on the witness stand, his tune changed, and he claimed that he was falsely taking credit for something he shouldn’t have.
It’s important to remember that this case has been ongoing throughout the year. If Trulieve’s Board of Directors thought their CEO was going to be a liability, then throwing her under the bus would have been the most prudent option. In January 2021, the company filed a statement with the SEC citing this risk.
In the event the Agency investigation results in any allegation of wrongdoing or otherwise further targets Ms. Rivers, Ms. Rivers may be unable to continue serving as our President and Chief Executive Officer and a member of our board of directors.
Credit: Trulieve SEC filing via Tampa Bay Times
We’ve talked before how we don’t like companies where the CEO is also the Chairman of the Board because that’s a conflict of interest. What’s the likelihood Ms. Rivers would have thrown herself under the bus? Nonetheless, Ms. Rivers looked at herself in the mirror and said, “I stand behind you” and the rest of the people on the Board seemed to agree, issuing the below statement when the verdict was reached in Mr. Burnette’s trial.
Perhaps the biggest vote of confidence was the Harvest acquisition deal closing this past October. Valued at $2.1 billion when it was announced in May, it was touted as the largest U.S. marijuana transaction to date. The deal expanded Trulieve’s Florida medical cannabis footprint by giving them “approximately 37% more retail locations than the next closest competitor and 50% more, or a million square feet more, cultivation than the next closest competitor.” It seems highly unlikely that the state of Florida – and all the regulators involved – would sign off on such a major deal if any actors at Trulieve were to be indicted on any charges relating to the Burnette fiasco.
There’s one other thing we like about Trulieve. They did what most companies don’t have the cojones to do which is to sue a short seller for libel. (If a company’s management team vehemently denies accusations that damage shareholder value, why the heck wouldn’t you?) Grizzly Research published a short report on Trulieve and Trulieve is taking them to court for libel. Published in December of 2019, the report is now nearly two years old, and a good chunk of what’s contained within refers to the investigation into Mr. Burnette. It’s safe to say the FBI vetted that report as part of their investigation, and if there were a smoking gun to be found within, that would have likely surfaced during the investigation and trial that concluded this past summer.
Would We Buy Trulieve?
The cannabis market is extremely fragmented, so we’re interested in companies that demonstrate leadership in whatever states they operate in. Therefore, market leadership in the states you operate in is far more important than how many total states you operate in. When cannabis finally becomes legalized at the federal level, the path to replicating success across all states will be clear. Trulieve absolutely dominates the medical marijuana market in Florida and they’ve now acquired market leading positions in Arizona (Harvest is one of the largest operators in the state of Arizona) and Pennsylvania. The problem is, we don’t have insights going forward into the progress being made in these various states. It’s a problem we noted in our last piece on Trulieve – Trulieve Stock and the Cannabis Risk Problem.
As we discussed before, very few of these multi-state operators provide the sort of revenue/profit breakdowns that we can use to see what sort of exposure they have to each state. The answer to the problem is federal legalization of cannabis. Until we can resolve the patchwork quilt of recreational and medical laws that exist across the United States, we will not be able to properly measure and price regulatory risk for cannabis stocks.Â
The same holds true for the synergies that can be realized once decriminalization happens at the Federal level. Given that most people in the United States now want this to happen, we believe it’s only a matter of time. In fact, it might be the single talking point that nearly half of Republicans and a large majority of Democrats can agree upon. Ah yes, and America’s crime problem. We can probably all agree that needs to stop too.
It comes down to trusting that no further action will come from all the dirty laundry that was aired this year. Leading the company is a lawyer in a previous life who specialized in M&A, and who seems to have the political connections needed to operate in an extremely risky regulatory environment. Attorney Jonathan Robbins who represented Trulieve in the past told the Tampa Bay Times that Trulieve has the money and the power to get where it wants to go. “If you were to interview 50 attorneys, cannabis lobbyists, or anyone else who is familiar with the cannabis industry…I don’t think anybody would tell you any different,” he said. Let’s hope that’s the case.
If we decide to take a punt on Trulieve and go long our first cannabis stock ever, Nanalyze Premium annual subscribers will be the first to know.
Conclusion
Going long cannabis at current valuations seems to make sense. Trulieve’s consistent profitability over the past 15 quarters, ability to secure a large amount of funding under favorable terms, and recent closure of the biggest M&A event in cannabis history (says the firm) makes them stand out among their peers. Provided this year’s embarrassing events are behind them for good, the company seems like a compelling way to play the growth of cannabis in the United States.
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